Company / Analytics

Analytics, 18 March 2022

Sectors that benefit from rising Interest rates

On Wednesday, the US Federal Reserve announced it would raise the target federal funds rate 25 basis points (0.25%) to slow decades-high inflation. The Bank of England also raised interest rates for the third time.

Central banks worldwide are now more focused on fighting inflation versus aiding the global economic recovery. Interest rates rise and fall as the economy moves through periods of growth and stagnation.

For investors, rising rates require careful attention when crafting an investment portfolio. An environment of rising interest rates with signs of an improving economy can offer opportunities for investors within the equity space. It is thus important to examine which sectors within the stock market tend to benefit from higher rates. For starters, bank stocks are widely expected to thrive as U.S. monetary policy normalizes.

Financials sector

The financial sector has historically been among the most sensitive to changes in interest rates. With profit margins that actually expand as rates climb, entities like banks, insurance companies, brokerage firms, and money managers generally benefit from higher interest rates.

Rising rates tend to point to a strong economy. And that health usually means that borrowers have an easier time making loan payments and banks have fewer non-performing assets. It also means that banks can earn more from the spread between what they pay (to savers for savings accounts and certificates of deposit) and what they can earn (from highly rated debt like Treasuries).

Financial companies that might benefit as rates rise include include American Express, Citizens Financial Group (CFG), Fifth Third Bancorp (FITB), Huntington Bancshares (HBAN), KeyCorp (KEY), Morgan Stanley (MS), People’s United Financial (PBCT), PNC Financial Services (PNC), Truist Financial (TFC), U.S. Bancorp (USB), and Wells Fargo (WFC).

Brokerage companies may also benefit since a healthy economy sees more investment activity and brokerage firms also benefit from increased interest income when rates move higher.

Similarly, insurance companies may also flourish as rates rise. In fact, the relationship between interest rates and insurance companies is linear, meaning the higher the rate, the greater the growth. Insurance providers don’t fare in low-rate environments because their underlying bond investments yield weak returns. Insurers, which have steady cash flows, are compelled to hold lots of safe debt to back the insurance policies they write. In addition, the economic health dividend also applies to insurers. Improving consumer sentiment means more car purchasing and improving home sales, which means more policy-writing.

Sectors beyond financials

Beyond financials other sectors that benefit indirectly from rising interest rates include consumer discretionary stocks which often see a bump because improving employment, coupled with a healthier housing market, makes consumers more likely to splurge on purchases outside of the realm of consumer staples (food, beverages, and hygiene goods).

Manufacturers and sellers of kitchen appliances, cars, clothes, hotels, restaurants, and movies are worth keeping an eye one as they often benefit from the economic health dividend. Finally, the industrials sector also benefits from the economic health dividend indicated by rising rates.

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